Ponzi Revisited

After the Bernie Madoff exposure, I was tasked with explaining to my Ethiopian companions what a “Ponzi scheme” is, how it begins, proceeds, and ends. One of the points I made is that Madoff began with high and honorable intentions, and then first discovered how a single number could be slightly adjusted to improve his credentials, improve his stature, improve the trust and faith and capital people gave him, without being observed by anyone, and then his road proceeded down that direction to its final terminus. Then I trotted out the familiar graph of a triangle operation which works just fine until it reaches the point where it is no longer possible to continue to add a larger and larger base at the bottom, at which point everything goes to hell.


The other day I came across this essay and it brought me to review an old discussion from a new vantage point:
http://www.theoildrum.com/node/5121
Roger K makes the point that “Many people have claimed (I am one of them) that our current economic system requires constant growth for healthy functioning”. This statement, juxtaposed with the exposition above, brought me to realize afresh how much trouble our economic system is in and how deep are the root causes.

People who know me are aware that I have been an extremely successful investor, concentrating on energy for the last decade, and widely read in fundamentals. In brief, I have been telling and writing for anyone who would listen that the concept of “peak oil” is based on production levels, not total worldwide available reserves, and that it is not a theory but a fact, the peak having been achieved in May of 2005, and the current “financial crisis” by damping down demand and restricting access to capital, has accelerated the decline.
The ethanol debacle and the simple information that nitrogen fertilizer is manufactured from natural gas, led me to examine the worldwide food production and supply as well. The numbers suggest that natural gas production has not yet peaked but that a peak is inevitable and probably lies within a small number of years. Less gas definitely means, less food. And less food, quite logically, leads one to the inescapable conclusion of less people.

I considered the economic history of the USA, bastion of capitalism. Recent among civilizations, a few rogues, thieves and misfits, determined either to make profit or to force their world to adapt to their theocratic fantasies, settled in a land which embedded the best farmland and forestry in the world, as well as the most coal and iron ore and oil and mineral resources. They quickly set about the business of exterminating the sparse people who called the land home, and importing slave labor to do their dirty work. Within several generations, these people became rich and powerful in the world, and they attributed their wealth to their religion, their political system, their economic philosophy, and their own general superiority. Certainly one key to their success has been the constant influx of new immigrants, who determined that climbing on to the bottom of this pyramid was to be preferred over staying where they originated.

I considered technology in my lifetime. I went to school during the “race to the moon”.
At first focused on the fiction that mankind could spread to other planets and star systems throughout the galaxy, the unintended side effects were unpredicted advances in calculator machines and methods, among other inventions. My career spanned the advent and growth of the Internet, a technology which first threatened to bring common language and democracy to the entire planet, much as the Tower of Babel had in its day. I have since watched as the corporate world attempts to divide and conquer are relentlessly bringing it to its knees.

One of the fundamental tenets which make capitalism function is the value of providing one’s assets for another person or corporation to use, in the anticipation that both parties will benefit financially. Obviously there are trillions of such transactions, each with its particular circumstances. But the aggregate of all of them, works. Clearly, it can only work when there is long-term growth. Again, over 400 years the population has steadily increased, the infrastructure has steadily increased, the assets and the consumption have steadily increased. The culture has a built-in expectation of economic growth. You have to believe that your own income is going to increase in order to justify most loans.

However, there is a growing awareness, at least among the better educated of the populace, that this growth cannot continue forever, that there are limits, and that some of those limits may be at hand. The limitation of availability of oil is a huge consideration. The use of oil for energy has increased man’s efficiency by a factor of some 34,000 from the days where anything he accomplished was done by his own sweat. If oil production can no longer grow that puts a tremendous governor on the economic machine. Another limit is the amount of food that the planet can produce. There are not a lot more rivers to dam or forests to clear and plow. There are constant increasing threats to modern agriculture as the diversity of crops has diminished, from diseases and parasites adapting genetic resistance to our best methods of controlling them. Maybe the most critical limit to future growth is the availability of potable water. Because of the permanent nature of our residences, transportation systems and workplaces, the threat of any sort of major climate change also could also cause economic contraction.

In short, the society at large is coming to the overall conclusion that general growth has gone just about as far as it can go.

And what does that do to capitalism as an economic system? If a lot of people begin to believe that hoarding food, water, oil, and other basic resources is more likely to be to their advantage than loaning or investing resources in the mechanics of creating more, doesn’t that become a self-fulfilling prophesy? If people stop investing, then what?

For this reason I believe that capitalism as an economic system has come to its final end. Much as Wiley Coyote, chasing Road Runner, would still spin his legs after he ran off the cliff, our day-to-day operations continue. But you know, one of these days, we are destined to look down. And its still an awfully long drop.